I began my career on the trading floor of the NYSE in 2002 with Merrill Lynch's Institutional Equity trading division. After several years, I left to become head trader and later a portfolio manager at a commodity and natural resource focused global macro hedge fund. After spending some time on the “buy side” I joined a leading financial publisher as the head of its trading strategies and turned my focus to providing succinct yet comprehensive macro-economic and market analysis direct to the investing public. I’ve been frequent guest on national financial networks, and also been a guest commentator on national radio shows, and been quoted in various national print publications. I’m a cum laude graduate of Vanderbilt University and hold a bachelor's degree in business management, with minors in finance and philosophy, and received my MBA from the Hough Graduate School of Business at the University of Florida.

Wage-Push Inflation Is Japan's Next Bullish Driver

If you were long Japanese equities in 2013, you’ve got a lot to celebrate.

The stunning year of performance on the Nikkei 225 saw the benchmark index finish vault 57% higher. That’s the biggest increase in the Japanese stock market since 1972, when the Nikkei nearly doubled in value. The gains in Japan trounced the performance of the S&P 500, which had its best year since the mid-1990’s, surging nearly 30% in 2013.

So, with such a big boost in Japanese stocks this year, is there any fuel left to keep the bulls running in 2014?

The short answer is “yes,” and the reason why is something called “wage-push inflation”

In mid-December, I said that we could be seeing the start of “wage-push inflation” in Japan after the All Toyota Workers Union said it will push for higher wages nextnext year. While this may have seemed like a relatively uneventful piece of news at the time, it’s extremely important, because if other unions in Japan follow this push for higher wages, it could finally start the process of wage-push inflation.

Wage-push inflation basically is a fancy way of explaining that when people get paid more (higher wages), they spend more. That, in turn, causes prices to rise for goods and services, because more money chases the same amount of goods. Normally, economies don’t want wage-push inflation, but in the case of Japan, where the Shinzo Abe administration is trying to manufacture inflation, this could be a very positive sign.

One of the main reasons Japan hasn’t been able to break the cycle of deflation is because companies have been reluctant to increase wages (Toyota hasn’t increased wages since 2008), so the fact that incomes are stagnant acts as a deflationary force, especially in a world of rising costs.

However, if Japanese companies finally move and wages start to increase, it’ll be a big positive for the potential of inflation restarting in Japan. From an investment standpoint, that would be very bullish for a Japan-focused equity fund such as the WisdomTree Japan Hedged Equity Fund (DXJ), as stock prices would inflate along with everything else, and the yen would decline.

The Keidanren wage increase represents growing momentum for additional wage increases across Japan, and that could be the next bullish tailwind capable of propelling Japanese equities higher in 2014. In fact, I suspect we now are entering the next stage of the Japan equity rally, and that’s a big reason why I think a fund such as DXJ still has plenty of room to run.

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Tom Essaye is Founder and Editor, of The 7:00’s Report, a daily investment research note that provides need-to-know analysis of markets, economics, and geopolitics—all delivered by 7:00 AM, and readable in 7 minutes or less. At the time of publication, the authors held a long position in DXJ.

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